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Nestle, rivals vie for baby milk prize in China's smaller cities

London

NESTLE plans to launch a new line of baby formula in China this year under an existing brand, targeted at smaller cities, as the world's largest packaged food company tries to lengthen its lead in the world's biggest baby milk market.

The new line, discussed exclusively with Reuters, will focus on smaller provincial cities, often in China's western provinces, where greater shipping distances and lower incomes can make some imported brand goods unaffordable, though wealth there is growing.

Producers of many consumer staples such as soft drinks and soap had to seek growth in the less-profitable provincial cities years ago, as China's richer eastern markets matured.

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But the baby milk units of Nestle, France's Danone and Reckitt Benckiser enjoyed years of prosperity mainly just targeting parents in big cities like Shanghai and Beijing, banking on their appetite for ever-pricier premium formulas and foreign brands following a domestic 2008 tainted milk scandal.

Slowing growth has now made geographic expansion crucial, and new distribution models have made it easier. The big catch, however, is the intense competition and logistical hurdles they will encounter in China's US$25 billion baby formula market as they run up against local players who dominate in the smaller cities - challenges that mirror those faced by Western brands across China's consumer goods sector.

Some 55 per cent of respondents in a survey by the User Research Institute of BabyTree, China's leading parenting website operator, said domestic brands better understood Chinese consumers.

"This reflects a broader trend that indicates local brands are gaining traction among consumers in China," said Wang Lei, head of the institute.

Chinese retail sales of baby formula grew 9 per cent last year, according to Euromonitor International. That is down from nearly 17 per cent growth in 2014, the year after China relaxed its one-child policy. Yet the scale of the country, with more than 15 million births last year, and consumers' preoccupation with quality, means it is still by far the world's most important market for baby formula.

That balance of international brand trust and local tailoring is what Nestle is aiming for with its new line.

It will come under the umbrella of one of its three existing Chinese brands - Illuma, S-26 and NAN - but will be marketed differently, Thierry Philardeau, head of its infant nutrition business, said in an interview.

He did not give details but noted that adaptations in distribution and marketing would make the "sub-brand" more appropriate for its target audience.

Marketers and other businesses unofficially classify China's cities into tiers based on differences in business opportunity, infrastructure, population size, income level and consumer behaviour and sophistication.

The major metropolises of Beijing, Shanghai, Guangzhou and Shenzhen are traditionally seen as Tier 1 cities, with the following tiers made up of smaller, fast-growing cities that still boast of millions of inhabitants.

Such lower-tier cities, accounted for 47 per cent of the baby formula market 15 years ago, Nestle's Mr Philardeau said, but 73 per cent today.

"People have more money to spend there and are catching up with the rest of China," he said. But because of different consumer demographics, he said the tone of the new line's marketing would be simpler, though the product's quality and sophistication would be comparable.

Sub-brands are a common tactic used by marketers to take advantage of the cachet of a premium brand while selling something more affordable. In China, they are often used in lower-tier cities or rural areas, along with smaller package sizes, to make products that are more affordable.

Nestle's new range, which will include products for babies of various ages, will be made at factories in China, though the company did not say where the milk would come from.

Because of consumers' unique concerns around safety and quality, baby formula is much more expensive in China than in Europe. One 800 g (28 ozs) can of baby formula in China tends to cost north of US$30, while a similar can costs US$13 in Britain.

Adam Xu, a partner at OC&C Strategy Consultants in Shanghai, said though willingness to pay high prices for baby formula was universal in China, the growth of quality national players - encouraged by the government - was making life harder for premium Western brands.

Chinese formula makers, which include Feihe International, China Mengniu Dairy and Inner Mongolia Yili Industrial Group, have grown stronger, amid a host of marketplace shifts including government registration requirements implemented last year that dramatically reduced the number of brands on the market.

At the same time, investments by domestic players in premium brands and special formulations are helping to overcome safety concerns, said analysts at Citi Research. They predict Chinese brands could reach 53 per cent market share by 2022, up from 40 per cent in 2015. That is because in an overall market expected to grow about 7 per cent, they see domestic brands growing 11 per cent and foreign brands growing only 4 per cent. REUTERS